Friday, October 29, 2010

On the eve of the midterm elections, a third-quarter GDP report showing a meager 2 percent growth rate is the final nail in the Obama Democrats’ political coffin.

The economic nails slowly have been hammered into that coffin all summer and fall. A spate of subpar economic statistics has shown the failure of the fiscal-stimulus spending program. And myriad tax and regulatory threats produced by new government policies have created a massive uncertainty overhang and a dismal jobs outlook. American businesses have gone on an investment-capital and hiring strike.

For a White House that bet the ranch on a massive government pump-priming plan, it has all turned out to be a complete failure. The scheduled economic recovery has simply not occurred.

And that’s why a Republican Tea Party tsunami lies just over the horizon. That tidal wave could be even greater than current polling suggests.

It should have been recovery summer, according to the president and his followers. But it is now officially a recovery slump. The entire command-and-control economic philosophy of the Obama Democrats has proven to be a big bust. And they’ll pay a very big price for this.

In fact, the last two GDP reports have averaged less than 2 percent growth, something that qualifies as a growth recession, not a recovery.

Even worse, the GDP deflator — the broadest inflation measure — came in at 2.2 percent in the third quarter, following a 2 percent reading in the second quarter. That means inflation is rising faster than real output. Stagflation.

The Bernanke Fed should take notice of this on the eve of its quantitative-easing pump-priming exercise, expected to be announced the day after the election. We are actually experiencing a mini version of stagflationary growth recession.

The spending, taxing, and regulating policies of the Democratic Congress and administration have blocked growth, putting the Fed in a position to provide even more money to chase fewer goods. But in classic Milton Friedman terms, even though the economy is mired in stagnation, that’s still an inflationary prescription.

On top of all that, the depreciating-dollar policies of the Fed have led to a boom in commodity prices, including food and energy — things ordinary Americans pay for in the course of their typical week.

When the economy came in at 5 percent in the last quarter of 2009, and at 3.7 percent in early 2001, it looked like a recovery scenario. This, of course, followed the Fed’s massive $2 trillion stimulus plan and the more than $1 trillion fiscal stimulus. But the sugar highs quickly evaporated as growth slowed to 1.7 percent in the spring and 2 percent in the summer.

Meanwhile, a stubbornly high unemployment rate of 9.6 percent was supposed to have dropped to 8 percent last year and 7 percent by the end of this year, according to the president’s Council of Economic Advisers. But it didn’t. The so-called stimulus failed to stimulate.

Actually, unemployment is much worse for regular workaday folks. Counting marginal part-time workers and discouraged workers, unemployment is 17.3 percent. And this year, while the president promised 1.5 million new jobs, nonfarm payrolls have grown by only 613,000, and actually have fallen over the past four months.

The trouble with the whole Obama mindset is the notion that government can run the economy. That idea has failed. It is business that runs the economy, including entrepreneurs and risk-takers. Yet the animal spirits have been stifled, while the producers have been laughed at, mocked, and insulted.

The Obama class-warfare campaign against business and investment has created a wall of worry and a refusal to invest in the future. The incentive model of growth, where it must pay more after tax and regulatory costs to work, produce, and invest, has been discarded by Obama’s extreme left-liberal Keynesianism. Predictably, higher costs — including the cost of Obamacare, probably the single-greatest barrier to growth and jobs — have forced the most productive factors in the economy to hole up and virtually shut down.

But the whole Tea Party movement of free-market populism represents an attempt to re-oxygenate the economy by unclogging the blood vessels of entrepreneurship with a major rollback of spending, taxing, and regulating. This Tea Party philosophy is derided daily by the Democrats, but it represents a bull’s-eye in terms of creating future economic growth.

Fortunately, the Republican party has returned to this Reaganesque message. This is the single most-important theme in the GOP comeback.

Wednesday, October 27, 2010

Perhaps I was right to give Treasury man Tim Geithner the benefit of the doubt over his statements last week hinting at King Dollar protection. Perhaps.

Today’s big news on the Fed’s QE2 money-creating policy — due out the day after the election — suggests a minimal Fed pump priming. Call it QE Lite.

This comes from Jon Hilsenrath’s Fed-leak story in the Wall Street Journal. The next round of monetary stimulus won’t be anything near $1 trillion to $2 trillion, but more like “a few hundred billion dollars over several months.”

As a result of this story, the dollar rose half a percent across-the-board, and gold is now about $80 below its recent peak.

Now, don’t get me wrong. I don’t want QE anything. There’s plenty of unused liquidity sloshing around the system. And a stable King Dollar is the best medicine for economic growth and price stability.

What will trigger a stronger economy with job creation is the $100 billion budget cut now being discussed by Republicans in the House along with a freeze on the Bush tax rates. That’s pro-growth fiscal policy. Join it with pro-growth currency stability.

But back to the Fed and Treasury. A minimalist Fed stimulus is certainly better than a massive new-dollar creation that would totally sink the greenback and lead to a much higher inflation tax far more quickly than almost all commentators think.

And here’s an interesting point. Maybe Bernanke & Co. has been watching inflation-sensitive market prices, including gold, commodities, the negative real yield on inflation-protected bonds, and even the run-up in oil. Perhaps the Fed is at least cognizant of the risks of a plunging dollar.

Even longer-term bond rates have been backing up. So it’s not inconceivable that the Treasury and Fed are watching market-price indicators, including the dollar. And perhaps that accounts for the Fed leak of a minimalist action rather than a dollar-destroying maximum action.

And as Hilsenrath points out, there are a lot of doubters inside the Fed. The presidents of the reserve banks in Minneapolis, Dallas, Philadelphia, and Kansas City are leading the skeptical charge. Good for them.

In any event, since Geithner came out with his statement that no country can devalue its way to prosperity, and that the dollar is low enough against the euro and yen, the greenback has at least temporarily stabilized and gold prices have dropped.

The stock market is trying to figure all this out, and it got slammed earlier this morning. But the Dow came back to close only 43 points down.

Let me say this: Stocks soared during the strong-dollar Ronald Reagan ’80s (at least during his first term) and in Bill Clinton’s second term. These were King Dollar periods that helped set the stage for non-inflationary wealth creation and low unemployment.

More to the point, the expected Republican tsunami come Tuesday is likely to shift fiscal policy in the direction of lower spending, taxing, and regulating. We can debate how much, but that will be the GOP/Tea Party intent. That’s bullish for the dollar, the economy, and the stock market.

Tuesday, October 26, 2010

An extraordinary event for bond markets occurred yesterday when the Treasury sold $10 billion of 5-year inflation-protected securities, or TIPS, at an auction with a yield of negative 0.55 percent. That’s right. Negative. Can’t remember when that’s happened before.

In other words, investors were willing to pay the Treasury 105 cents in order to buy $1 of inflation protection.

Now how does that square with the Fed’s newfound fear of deflation? Does the central bank ever listen to markets?

Ever since Ben Bernanke announced his QE2 pump-priming monetary-stimulus idea late last August, inflation-sensitive markets have been going wild. The dollar is down. Gold is up. Commodities are up — big time.

Treasury head Tim Geithner made some noises about protecting King Dollar, and I gave him the benefit of the doubt. But he endorsed QE2 at the G-20 meeting in South Korea, and that really dooms the dollar. You can’t print $1 trillion of new money without sinking the currency. The dollar is already overproduced. Just ask China and other Asian countries, or Brazil, each of which is fighting against the inflow of excess dollars.

Again, judging by inflation-sensitive markets, rising prices are the fear, not falling prices.

Wall Street strategist Peter Boockvar writes about the CRB index rising to its highest level in two years, including booming cotton and copper. He also notes companies like Starbucks, McDonald’s, General Mills, Goodyear, and Kimberly-Clark, which have all reported higher cost inflation. And then comes this priceless sentence: “Ahead of next week’s FOMC meeting, where the Fed wants higher inflation, all will be okay as long as you don’t drive, eat, drink, wear cotton-based clothes, use copper wire for any type of construction, blow your nose, diaper a kid, or wipe your arse.”

Boockvar is right. The Fed is wrong. Investors will even take negative real yields to protect against inflation. What does that tell you?

Friday, October 22, 2010

"The USA and no country around the world can devalue its way to prosperity, to competitiveness, it is not a viable feasible strategy and we will not engage in it." - Treasury Secretary Timothy Geithner

Thursday, October 21, 2010

Traders beware. Treasury man Tim Geithner appears to be setting up a two-sided dollar trade. The dollar could go up, not just down.

Following my latest column -- “Tim Geithner, Dollar Protector?” -- where I discuss how the Treasury man said we can’t devalue our way into prosperity, there’s new information from today’s Wall Street Journal: Geithner says “the major currencies are roughly in alignment now.” And the WSJ thinks that might mean Geithner sees no need for the dollar to sink more than it already has against the euro and the yen.

In today’s trading, the dollar index is up about a third of a percentage point. Gold is off $18 and has now corrected about $60 lower from its early week peak.

Geithner’s comments on the euro and the yen are very important. Yes, he wants the Chinese yuan to go up against the dollar, which is a depreciation for the greenback. But he separates that away from the yen and the euro. And it seems to me that he really lays down a marker in the sand. It could be a dangerous marker for traders and investors who until recently have been totally short the dollar and long gold and commodities.

Of course, the question is: What will Geithner do to back up his strong dollar-defense language? Will he intervene in the foreign-exchange market to support King Dollar? I’m especially interested in the dollar-euro relationship, which is probably the most important in global trading.

And that’s why I warn about a two-sided market. Up to now, shorting the dollar has been like shooting fish in a barrel. This may change.

And there are more implications: Perhaps Geithner and Fed head Ben Bernanke are working out a deal with the Japanese and Europeans. Such a deal might include a minimal Fed QE2 pump-priming.

In other words, stock investors beware -- at least those who believe a $1 trillion QE2 of new liquidity is good for stocks. Expectations of a massive Fed easing may be way overblown. It could turn out to be a miniscule pump-priming and new-dollar-creating action. And that could cause a setback in stocks, despite strong earnings reports and the Tea Party congressional cavalry coming to Washington on November 2.

Once again, I don’t know how to completely read Geithner’s comments. But he has been very visible and very bold, really putting himself out there with these dollar-protection statements. He must know that if he fails and the dollar tanks, his credibility will suffer irreparable damage. And that’s why I believe he knows exactly what he is doing, and that he has some new cards up his sleeve to protect King Dollar.

Wednesday, October 20, 2010

The falling dollar is on most everybody’s mind, especially in financial markets here at home and globally. A currency war? World protectionism? Race to the bottom?

The dollar is the lynchpin of the world’s financial system, and it’s still the world’s reserve currency. But as the Federal Reserve gets ready for its so-called QE2 pump-priming expedition to re-inflate the U.S. economy, the greenback has fallen about 10 percent, while gold and broader commodity indexes have soared. Despite a weak-kneed jobless recovery, inflation is in the air.

Apparently, the weak dollar doesn’t concern Fed-head Ben Bernanke all that much. But in a new wrinkle to this story, one wonders if Treasury Secretary Tim Geithner is suddenly paying attention to the greenback.

Most Treasury men chant a mantra that a strong dollar is in the nation’s interest. And until this week, Geithner had not even done that. In fact, he has said little to nothing about the dollar during his tenure.

But then on Monday, in a Silicon Valley speech to businessmen, he said the following: “It is very important for people to understand that the United States of America and no country around the world can devalue its way to prosperity, to be competitive. . . . It is not a viable, feasible strategy, and we will not engage in it.”

Answering a question at this meeting, Geithner said the U.S. needed to “work hard to preserve confidence in the strong dollar.” And when asked if the dollar would lose its status as the world’s reserve currency, he said, “Not in our lifetime.”

So, is Tim Geithner out of the closet as a hard-money dollar protector? Or is he engaging in some sort of cognitive dissonance, blowing smoke at us? Is he speaking with forked tongue, or is he going to mean business about protecting the dollar?

I don’t know the answers here. But I do know that if the Fed sets sail with its pump-priming campaign to put one trillion new dollars in circulation, the greenback is going to fall mightily more.

Last year, during QE1, the trade-weighted dollar fell 17 percent from peak to trough. Guess what? Coming out of the worst recession in at least 30 years (if not longer), the consumer price index jumped higher — regardless of the high 10 percent unemployment rate. On a quarterly basis, the CPI fell 9.2 percent in the fourth quarter of 2008, and dropped another 2.2 percent in the first quarter of 2009. Then, as the dollar fell, the CPI increased 1.9 percent in last year’s second quarter, 3.7 percent in the third quarter, and 2.6 percent in the fourth quarter, all at annual rates.

And all this despite a moribund economy.

So the falling dollar is, in fact, a very strong transmission mechanism for higher inflation. And inflation is the cruelest tax of all on the economy. With the dollar rising earlier this year, inflation has cooled in the last six months. But many now fear the falling dollar will reignite the price indexes.

Nobelist Robert Mundell recently said there’s about one-year lag between a sinking dollar and a higher inflation rate. But that lag may be even shorter.

Now, Mr. Bernanke has never really understood the inflationary power of the falling dollar. Witness the oil shock of 2007-08, which decimated the economy. But the question is whether Mr. Geithner suddenly does grasp this relationship.

What exactly is Tim Geithner telling us? If he opposes devaluing our way to prosperity — a sensible position — does that mean he disagrees with Bernanke’s QE2 campaign. Is there a Fed/Treasury split in the works? (The White House has never publically opined on QE2.)

Is Tim Geithner actually preparing to intervene to defend the dollar in foreign-exchange markets, even while the Fed pumps another $1 trillion into the system? Or is Geithner just jawboning the exchange markets in a futile attempt to slow the dollar’s plunge amidst QE2?

This weekend the G-20 convenes to discuss currencies. In my view, they should develop a policy of worldwide currency stability. And I would prefer a golden anchor for that stability. To paraphrase Mundell, low tax rates and currency stability is the key to prosperity.

But more immediately, what will Geithner do? The greenback already has fallen about 10 percent, and it will surely drop at least another 10 percent if the Fed follows through and radically increases the quantity of money. Another dollar plunge will do great harm to the economy. Foreign investment in the U.S. will dry up. Domestic investment will flow out of the country. Liquidity will be drained. The inflation tax will kick in.

So will Tim Geithner resurrect King Dollar? That’s a very big question.

Monday, October 18, 2010

As we all know, Ben Bernanke believes the unemployment rate is too high and the inflation rate is too low. He’s certainly right about the former. However, regarding inflation, booming gold and commodity prices and the sinking dollar suggest that U.S. inflation will be rising in about a year, not falling.

Does the Fed head look at market-driven prices? Surely he does. But it’s equally certain that this will not deter him from pump-priming QE2. Underneath it all, Bernanke believes in the false Phillips Curve tradeoff between inflation and unemployment.

But an interesting question is: How weak is the economy? There’s a lot of pessimism about this, but Friday’s report on retail sales was very strong. Retail sales are up three straight months for a 7.4 percent annualized rate. Year-to-year retail sales have increased 7.3 percent. That’s a strong showing.

Today’s report on industrial production showed a surprise drop of two-tenths of 1 percent. However, the 12-month change for production is 5.4 percent, a healthy pace. Inside the report, the production of business equipment continued to rise, and registered a 10.1 percent yearly increase. That is very strong. Business equipment is a key indicator of capital-goods spending and investment, which is crucial to the economy.

And in the last available factory-orders report for August, orders for non-defense capital goods (excluding aircraft) came in 20.2 percent above year-ago levels, with shipments registering a 13 percent gain. Even backlogs are up 4.1 percent year-on-year. This strongly suggests that despite the tax and regulatory threats, highly profitable businesses are in fact expanding — even while they are not yet hiring all that much.

Another indicator of potential economic strength can be gleaned from the money supply measures. M1, which is transaction money, has grown 10.2 percent at an annual rate for the three months through September. This tracks the pickup in retail sales. Broader money, called M2, has increased 6.7 percent annually over the past five months. During the first five months of 2010, M2 declined 2.2 percent at an annual rate.

So the pickup in money demand could be signaling a better economy after the spring and summer slowdown. Perhaps consumers are moving to beat the tax man who could come crashing down January 1, 2011, unless the Bush tax cuts are extended. Perhaps strong business profits are stimulating growth more than we think. And despite tepid job creation, personal incomes are rising.

Tuesday, October 12, 2010

Believe it or not, with jobs falling for four consecutive months and unemployment stubbornly high near 10 percent, President Obama is out on the campaign trail bashing businesses and promoting class warfare. Huh? Oh my gosh is he off message.

He’s slamming the Chamber of Commerce for allegedly using foreign money in campaign ads, even though there’s not one shred of evidence of this. Huh (again)? Is the Chamber really a big election-year issue? Is it causing high unemployment?

Of course, Obama never mentions the unions, including the SEIU and AFL-CIO, and all their foreign money from their big international affiliates. Instead, he extends his own cast of villains, attacking special interests, Wall Street banks, corporations, the oil industry, the insurance industry, credit-card companies, AIG, and ExxonMobil. ExxonMobil? What did they do? Oh, they’re an oil company.

Phew. Kind of anti-business, wouldn’t you say?

Obama then blasts millionaires and billionaires, waging war on capital and investors, too. Next he talks about getting young people, African Americans, and union members to the polls. Even more division. Even more class warfare.

All this, of course, from the “post-partisan” president who was going to bring us all together for change.

But what’s truly incredible about Obama’s pre-election performance is how it totally misses the mark on the issues that really matter, like high unemployment, low growth, big-government spending, Obamacare, and tax hikes. That’s the stuff people are really talking about.

It’s as though Obama is from another planet, completely disconnected from the political reality as we march toward November 2.

A series of investor-related polls shows how totally detached the president is from the nearly 100 million folks who directly or indirectly own stocks.

A survey conducted by Citigroup Global Markets of 100 mutual-fund, hedge-fund, and pension-fund managers finds that institutional investors fear a government policy mistake far more than inflation, terrorism, a housing double-dip, poor earnings, or any other potential risk to the economy. (Hat tip to CNBC producer John Melloy.) One-third of the survey’s participants list government policy missteps as their biggest worry, ahead of the more than 15 percent who cite protectionism.

But these investors believe the chances of a big policy error will decrease if Republicans take back the House of Representatives in November.

In another poll conducted by Reuters, 75 percent of respondents believe the employment situation is the most important issue for Wall Street, followed by 41 percent who point to consumer confidence. Fleshing out the survey, nearly two-thirds of respondents say extending the Bush era tax cuts should be a high priority; just over a third say the budget deficit is the main concern; more than two-fifths say interest rates will start to rise and the dollar will weaken more if the deficit is not addressed; more than a quarter want Obamacare repealed; and only one-fifth say additional action by the Fed is crucial.

Then there’s a new poll from Investor’s Business Daily. It shows 56 percent of respondents saying they want tax cuts extended even for households with more than $250,000 in income. Only 39 percent in the poll want the rich to pay more, while support for making tax cuts for the rich permanent hit 63 percent for both Republicans and independents. By solid majorities, that includes taxes on capital gains, dividends, and estates, all to be frozen at current rates.

These polls reveal how utterly alien Obama is to the investor class. And it’s worth noting that investors are among the most likely voters to turn out for elections.

But the absolute key point here is that while Obama is bashing businesses, rich people, and all the rest, and while he continues to wage class warfare, he is talking about issues that are not on anyone’s mind. It’s the economy, stupid, and the low-spending, low-taxing, and minimal- regulating policies that would set the stage for a stronger economy, lower unemployment, and more confidence.

It’s as though the president is stuck in a 1930s time warp. His policies have failed to rejuvenate economic growth. But he will not address this. That’s his political failing. And that’s why he is going to suffer a huge shellacking on November 2.

Monday, October 11, 2010

Over the last few days, the Intrade pay-to-play investment exchange shows the contract for Democratic control of the Senate dropping below 50 percent for the first time. In fact, as of this writing, the contract is at 46 percent. For perspective, the contract was 95 percent in early 2010. Last summer, it was 75 percent.

And here’s what’s so interesting to me: Since late August, as the contract for Democratic Senate control dropped from 75 percent to its current 46 percent, the Dow Jones Index has basically risen from 10,000 to 11,000. Coincidence? I don’t think so.

The investor class has already discounted Republican House control. But not until recently has the stock market begun to think about a full-fledged Republican sweep of both houses of Congress. That gives more credibility to “stopping the bad stuff” -- to use John Boehner’s phrase -- meaning a freeze on the Bush tax rates and hopefully spending and over-regulating. That would be very bullish.

Now, I know many market commentators attribute the stock market rally to Ben Bernanke’s QE2 effort to once again pump up the money supply. More free money means higher stock prices according to this group. But as usual, these folks ignore the plunging dollar and soaring commodity prices, which will lead to an inflation tax on consumers and businesses, something that is not good for profits or economic growth.

The debate between election politics and QE2 will go on. Which is a bigger influence on stocks? I still think the election is everything right now.

I love heated debate as much as anyone. Maybe more. Who wants to hear a bunch of policy wonks try to be each other’s pals and solve the problems of the world? I’ll push the snooze button, thank you. And I hate compromising. Middle-of-the-road solutions are bad solutions, period.

But I grant you, there are a lot of people who are not happy with the tone of debate these days. People like my wife, Judy.

In fact, Judy and some of her similarly idealistic friends have started Common Ground Committee www.commongroundcommittee.org in an effort to change the tone of public discourse in America. I guess they figure that more civility will bring progress.

I’m skeptical, but I have to give Judy and her friends credit for taking action. They are putting on their first event in Greenwich, Connecticut, on Monday, October 25 at 7:30 P.M., at the Greenwich Library’s Cole Auditorium. It’s called, “What Is the Role of Government in the Nation’s Economy?”

Steve Moore, my friend and a regular guest on CNBC’s Kudlow Report, is a panelist, along with economist Mark Zandi and Christopher Shays, the man who prior to being defeated in 2008 was New England’s lone Republican congressman. The moderator will be John Yemma, editor-in-chief of the Christian Science Monitor, the highly respected international newspaper.

It’s a good crew. So before I push the snooze button on this one, I’m willing to see if these guys can make Judy and her pals happy by being both civil and enlightening. If you’re anywhere near Greenwich on October 25, check it out.

Friday, October 08, 2010

Friday’s unemployment report for September, the last before the election, brought more bad news for the Obama Democrats.

Noteworthy is the fact that stocks rallied a bit on the lackluster and tepid jobs numbers, pushing through the 11,000 mark. But more and more, it seems bad economic news illustrating the failure of Obamanomics becomes good news for stocks on the expectation of a GOP tsunami in November.

The unemployment rate itself held at 9.6 percent. It’s been over 9.5 percent for 14 straight months. Meanwhile, the marginally unemployed — or the so-called impairment rate (U-6) — jumped to 17.1 percent from 16.7 percent.

These headlines are political poison for Democrats. Voters are going to keep asking, What exactly did we get for a $1 trillion stimulus-spending package that puts us deeper in hock?

Overall, nonfarm payrolls fell 95,000 for September, largely from a drop in census workers and state and local government employees. Private payrolls increased 64,000, only a third of what’s necessary to sustainably reduce unemployment.

Average hourly wages were flat, as was the workweek.

Looking back, the jobs story was much stronger in the first four months of the year through April. But job creation has slowed markedly since then, along with the overall economy.

The household survey, which picks up small businesses, is the better story. This report has grown by 1.6 million jobs year-to-date (adjusted for census workers), or 178,000 per month. And in the payroll survey, corporate jobs have increased 863,000 in the private sector, coming to 96,000 per month. Yet both surveys most grow over 200,000 per month in order to truly dent stubbornly high unemployment.

There is no double-dip recession here. The recovery is probably advancing at about a 2 to 3 percent rate. But that’s a sluggish pace at best. We should be growing at least twice as fast.

Precisely because of the obvious failure of the Obama stimulus-spending program to adequately create jobs, the Federal Reserve is moving toward re-priming the pump. It’s the addition of yet another bad policy of dollar destruction to the first mistake of massive spending.

Think of it this way: The Fed is probably going to add another $1 trillion of new cash to the financial system. But as all those new dollars are created, the dollar excess sinks the greenback exchange rate. And that means investors will take the new money the Fed creates and drain it out of the U.S. financial system into more reliable currencies. Go figure Ben Bernanke’s logic.

The same thing happened between 2002 and 2006. The Fed was too loose for too long, the dollar fell too far, and all that cash fled the country, thereby undermining the Bush tax cuts.

Meanwhile, with today’s rapid rise in gold and commodity prices, a new inflation tax will be imposed on consumers and businesses. Bad for growth. Oil has jumped to $83 a barrel and gas at the retail pump is heading toward $3 a gallon.

And on top of all this, a world currency and trade war beckons. Treasury Secretary Tim Geithner is rapidly escalating the China-bashing rhetoric, as he blames the Chinese yuan for American economic woes. Shades of the 1930s. Neither the Treasury nor the Fed seems interested in defending the dollar’s world-reserve-currency status, or U.S. global economic leadership. And no one in official Washington seems interested in global-currency stability backed by a golden anchor.

But here’s the real problem. New numbers from the CBO show a 9 percent increase in federal budget spending for fiscal 2010. That’s about six-times the inflation rate. Astronomical.

Federal spending is now 25 percent of GDP, way past the historical norm of 20 percent. And the budget gap is $1.3 trillion. So how can you blame investors or businesses for asking this simple question: How high are my taxes going to go to finance all this?

Until this question is answered to their satisfaction, the job-creating engines will remain dormant. Obamacare is a massive tax and regulatory threat. And so is the spending and deficit problem. The Fed can pour all the new money it wants into the economy, but it cannot change any of this.

Wednesday, October 06, 2010

Could it have been the new Gallup poll that drove stocks up almost 200 points on Tuesday? That blockbuster survey, regarded by many as the blue-chip gold standard for election forecasting, pointed to an unprecedented Republican landslide tsunami in the generic congressional race. That blowout could include a GOP House gain of 65 to 70 seats, and a bare-majority 10-seat pickup in the Senate.

Released Monday night, the Gallup numbers demolished the new narrative of the elite mainstream media in Washington, and their prediction that somehow the Democrats are mounting a serious comeback based on frantic Obama campaigning and a slew of multimillion-dollar negative campaign ads.

Now, I acknowledge that most market mavens attributed the rally to the better-than-expected September ISM nonmanufacturing report, which printed 10 A.M. Tuesday. And yes, this did matter for the market. The composite index came in at 53, a bit better than expected. It beat August by two points, although it was still lower than July and below the second-quarter average of 55.

Soft, but growing. No double-dip recession.

Meanwhile, the business-activity index for September services arrived in sloppier condition. It came in below the August number and well below the second-quarter level. So, no recession in the widespread services economy, but no boom either. Just a modest expansion in the services sector with no new zip.

What was supposed to be Recovery Summer, according to Joe Biden, never came to pass.

Other market commentators attributed the Tuesday rally to Ben Bernanke’s speech, delivered Monday night in Providence. The Fed head clearly moved the central bank a big step closer to QEII money-creating through new bond purchases that will inject fresh cash into the economy. However, soaring gold prices and a plunging dollar on the foreign exchanges have been discounting this since Bernanke first launched QEII in Jackson Hole, Wyoming, in late August.

So there’s nothing really new on the Helicopter Ben front. Nor can we say with any certainty that more money-printing and dollar-sinking are plusses for stocks and the economy. Longer run, I don’t think they are.

Then there are the stock pundits who pointed to the new QEI in Tokyo, also announced Monday night. This would increase the Bank of Japan’s balance sheet by roughly $60 billion, while dropping Japan’s target rate to virtually zero (just like ours). One aim of this action is to lower the exchange value of the yen (a goal of almost all currencies these days).

But most of this has been discussed already. And $60 billion in new Japanese quantitative easing is pretty small potatoes compared to the U.S. Fed’s $1.5 trillion humdinger from early 2009 to early 2010. Japan’s money announcement may have moved world markets, but I venture it wasn’t much of a game-changer on the NYSE. Maybe some, but not much.

What I do think, however, is that highly profitable companies would love to get Washington out of their hair. Anything that even slows down the federal tax-and-regulatory pawing of American firms could conceivably prompt businesses to unleash their massive cash hoard into something that more closely resembles a normal capital-goods-investment and job-hiring campaign — one that would increase economic growth and reduce unemployment.

Hence the significance of the new Gallup poll, which has political regime change written all over it.

Surveying likely voters, Gallup’s “high turnout model” shows Republicans in the lead by 53 to 40 percent. Good enough. But the more likely midterm “low turnout model,” with 40 percent of voters in attendance, shows an incredible GOP lead of 56 to 38 percent. Famed political analyst Michael Barone suggests that it won’t be 1994, but 1894 — when Republicans picked up 100 new seats in a House of roughly 350 members.

Now that’s a game-changer for politics and stocks. And that’s what I think caused the 200 point rally on Tuesday.

Such a staggering Republican victory would embody tea-party, free-market values of limited government and lower spending, taxing, and regulating As John Boehner puts it, “We can stop all the bad stuff.”

And stopping all the bad stuff would certainly enhance the future value of all those record-breaking corporate cash flows, which then can be capitalized into higher stock prices. In other words, a huge stock market rally. A veritable October surprise that could continue to year end.

We saw the beginning of this rally with the tea-party victories this summer. Now the Gallup poll sees the free-market tea-party carrying the GOP toward a chart-breaking victory on November 2.

No, the election is not yet over. We must wait two fortnights for the results. But a Gallup poll on Monday night may very well have ignited stocks on Tuesday. That’s a harbinger of very good things to come.

Tuesday, October 05, 2010

At a small, informal breakfast in Midtown New York Tuesday morning, House Republican leader John Boehner said the lame-duck Congress, scheduled roughly for November 15 through December 22, will pass a bill that extends all the Bush tax cuts. And he said President Obama will not veto that bill.

Boehner reminded the breakfast group that George Stephanopoulos asked Obama many times in a recent Good Morning America interview whether he would veto an extension of the full Bush tax-cut program. And not once did Obama answer the question.

That’s a shrewd point by Mr. Boehner. It harkens back to Obama’s last full White House press conference, when the president also dodged a question about vetoing a full extension of the tax cuts.

In practical terms, Boehner expects this lame-duck tax-cut bill will be part of an omnibus appropriations bill to fund the government. (There is no FY2011 budget.) He felt an omnibus bill would be better than a continuing resolution. In effect, it would be a mini reconciliation package — and a pro-growth package at that.

Boehner also made it clear that he was unhappy with the 99 Republicans who just voted — along with most Democrats — to pass the China trade-and-currency-protection bill. He basically said, “No, we must not go in that direction.” And he believes the bill will come to nothing, in particular under Republican leadership.

Boehner understands that such a bill would take a toll on middle- and lower-income people. Indeed, a massive price increase on Chinese imports brought on by protectionist tariffs, or a whopping hike in the value of the Chinese yuan, would slam all the folks who shop at Wal-Mart and Dollar General.

John Boehner himself has a strong free-trade record, and he grasps the need for a stable dollar. When asked about the plunging dollar during the 2000s, and how higher interest rates and inflation subverted the Bush tax cuts, he nodded in agreement. Boehner seems to get it.

More generally, the Republican leader is focused on stopping any regulatory, tax, and trade barriers to job creation. When asked about the main agenda point for a GOP Congress, Boehner said, “Stop all the bad stuff.”

I like it. Stop all the bad stuff.

So after the breakfast I got to thinking about the economy and a couple of front-page stories in the New York Times and the Wall Street Journal about the huge corporate-profits comeback and the incredibly strong financial position of American business. True enough, while firms have been stockpiling cash and making money hand over fist, and while they have yet to hire new workers or invest in new projects in earnest, the financial-health numbers are very impressive.

After-tax profits through the second quarter are up $1.2 trillion, marking the third-highest profits share of the economy since 1947. The cash hoard runs around $2 trillion, about half of which is overseas. It’s actually cheaper for firms to borrow and refinance their debt at rock-bottom interest rates than to pay the 35 percent tax rate on repatriating foreign earnings. Here’s an idea: How about a 5 percent tax holiday to bring those foreign earnings back home?

So U.S. companies have borrowed nearly $500 billion in the corporate bond markets this year. The railroad Norfolk Southern Corp. actually borrowed a quarter of a billion dollars in 100-year bonds. And Microsoft tapped the borrowing market for $4.75 billion at an interest rate of less than 1 percent.

Now, the New York Times put a sinister spin on this, as one might expect. The Gray Lady complained that while firms are getting cheap money, they’re not yet creating jobs. Fine. That’s true. But we are seeing the first faint signs of capital investment spending. Non-defense capital-goods orders are growing at 20 percent year-on-year and shipments are rising at 13 percent. And private job creation is coming in about 70,000 per month.

Of course, with the huge uncertainty over federal tax-and-regulatory policy and the economy itself, American business is being very cautious. But if John Boehner and the Republican cavalry can ride to Washington to keep tax rates down and “stop all the bad stuff,” then business and the economy may be poised for a massive spring-back.

The most recent Gallup poll of likely voters shows Republicans leading Democrats 53 to 40 percent in a high-turnout scenario, and 56 to 38 percent in a low-turnout scenario. So it would seem the Republican cavalry is coming. If policy and politics move in the right direction following the November elections, the cloud of uncertainty could begin to evaporate and the U.S. economy could explode on the upside.

Monday, October 04, 2010

This latest mini-documentary from my old friend Dan Mitchell debunks the statist argument regarding the need for higher taxes.

Various politicians and interest groups insist higher taxes are necessary because it would be impossible to cut spending by enough to get rid of red ink. This Center for Freedom and Prosperity video shows that these assertions are nonsense. The budget can be balanced very quickly by simply limiting the annual growth of federal spending.

Friday, October 01, 2010

Am I the only one who saw weakness when President Obama and his departing chief of staff Rahm Emanuel gave each other big, fat, full-bore hug following their speeches at the resignation event in the White House’s East Room on Friday?

Remember, this is on global television. And it has to do with the very top of the United States government. Our friends and enemies were all watching.

I think the hug lacked dignity. It did not send a message of American power and forcefulness. So I fret about the reaction around the world to this kind of fraternity-like emotionalism in full public view.

Why not just a dignified, stand-up, serious handshake? That’s what Reagan would have done. A strong handshake shows friendship, respect, and even affection. But a big fat hug seems to go over the line.

Perhaps I’m overreacting to this. But when it comes to the presidency and the behavior of our top leaders, I think the image we want to send at home and abroad is one of serious strength of purpose. Not some kind of collegiate squeeze. Somehow the Obama-Emanuel embrace seemed demeaning — to the presidency, to our officialdom, and to our strength of purpose.

Alright, let me move on to another point of weakness: Rahm Emanuel will be replaced by Pete Rouse, a White House insider who formerly worked in the Senate for leading Democratic liberals Tom Daschle, Dick Durbin, and, yes, Barack Obama.

Why is this weak? Well, with their backs against the wall in an election that is likely to inflict a shellacking on the Democrats, Team Obama has been talking a lot about reaching out to business to fill the numerous open policy slots in the White House. But they didn’t reach out to the world of business, nor to any new worlds at all.

So, best I can tell, there aren’t going to be any policy changes. Despite sweeping and almost transformational big-government legislation for Obamacare, spending stimulus, and banking control — all of which is proving vastly unpopular — the Rouse appointment suggests that nothing is going to change. No lessons learned. No real reshaping of the top team.

After all, it’s often said that personnel is policy. Therefore, keep the same team, keep the same policy. That’s more weakness.

And it comes on top of weakness in the final pre-election actions of Congress. This week, the Democrats walked away from any closure on extending the Bush tax cuts. The whole country is waiting and worrying about a potentially huge tax hike that will put a major new drag on an already soft economy.

But the House did see its way, in a terrible bipartisan vote, to pass a protectionist currency and trade attack on China. If this measure is ever enacted, it will impoverish consumers and businesses everywhere through a big spike in Chinese import prices. Of course, China — our banker — will retaliate.

This should go to the World Trade Organization. Or better yet, China and the U.S. should work out a deal. Let’s not repeat the Depression Era Smoot-Hawley tariff and trade war. Republicans are just as much to blame here as Democrats. Meanwhile, the threat of higher tariffs, on top of higher tax rates, only adds to uncertainty and weakens the foundation of growth.

Then there’s the U.S. dollar. Another point of weakness embedded in the China legislation is the implied decline in the value of the greenback. And this follows the Bernanke Fed’s apparent decision to foster even more dollar depreciation. This, too, will ultimately lead to higher prices and a tax-hike effect on the economy.

There are many debates among economists about how to resurrect the subpar, so-called recovery and generate some serious new job creation. But there is also widespread agreement that nations cannot tax their way into prosperity, devalue their way into prosperity, spend their way into prosperity, or pursue trade-limiting protectionism as a path to prosperity. All of this is weakness.

The undignified Obama-Emanuel hug is just the tip of the weakness iceberg.

About Me

Larry Kudlow

Lawrence Kudlow is CNBC’s Senior Contributor. For many years, he was the host of CNBC’s “The Kudlow Report”. He is also the host of The Larry Kudlow Show, which broadcasts on Saturdays from 10am to 1pm ET on WABC Radio and is syndicated nationally by Cumulus Media. He is also a nationally syndicated columnist and a former Reagan economic advisor. CNBC's The Kudlow Report also airs on Sirius (ch.129) and XM (ch.127) weeknights at 7pm ET.